Default risk and economic activity: A small open economy model with sovereign debt and default

Arbeitspapier

Empirical evidence shows that sovereign defaults are associated with significant downturns in economic activity in defaulting countries. However, the existing literature on sovereign debt and default mainly analyzes endowment economies and, therefore, does not address the relationship between default risk and macroeconomic dynamics. This paper develops a general equilibrium small open economy model with financial frictions that allows to simultaneously examine the behavior of output, investment and borrowing dynamics and its interaction with sovereign default. When calibrated to match the business cycles properties of an average emerging market economy, the model is able to reproduce the countercyclicality of net exports and sovereign spreads and the negative correlation between investment and net exports observed in the data. Furthermore, when analyzing its behavior around sovereign default, the model successfully captures the declines in output, consumption and investment that are actually associated with these episodes.

Object Details

• Language: Englisch

References and Relationships

• Bibliographic citation: Series: Working Papers ; No. 2012-16

Classification and Topics

• Classification: Wirtschaft ; Business Fluctuations; Cycles ; Financial Markets and the Macroeconomy ; Current Account Adjustment; Short-term Capital Movements ; International Lending and Debt Problems
• Subject: sovereign debt ; sovereign default ; business cycles ; small open economy ; Öffentliche Schulden ; Staatsbankrott ; Konjunktur ; Kleine offene Volkswirtschaft

Contributors, Places and Time

• Event: Geistige Schöpfung
• (who): Roldán-Peña, Jessica
• Event: Veröffentlichung
• (who): Banco de México
• (where): Ciudad de México
• (when): 2012

Further information

• Handle: http://hdl.handle.net/10419/83708
• Last update: 10.03.2025, 11:44 AM CET